Gram-negative bacterial endotoxin (i.e. lipopolysaccharide (LPS)) is one of the most potent stimulants of the innate immune system, recognized by the TLR4.MD-2 complex. Direct binding to MD-2 of LPS and LPS analogues that act as TLR4 agonists or antagonists is well established, but the role of MD-2 and TLR4 in receptor activation is much less clear. We have identified residues within the hairpin of MD-2 between strands five and six that, although not contacting acyl chains of tetraacylated lipid IVa (a TLR4 antagonist), influence activation of TLR4 by hexaacylated lipid A. We show that hydrophobic residues at positions 82, 85, and 87 of MD-2 are essential both for transfer of endotoxin from CD14 to monomeric MD-2 and for TLR4 activation. We also identified a pair of conserved hydrophobic residues (Phe-440 and Phe-463) in leucine-rich repeats 16 and 17 of the TLR4 ectodomain, which are essential for activation of TLR4 by LPS. F440A or F463A mutants of TLR4 were inactive, whereas the F440W mutant retained full activity. Charge reversal of neighboring cationic groups in the TLR4 ectodomain (Lys-388 and Lys-435), in contrast, did not affect cell activation. Our mutagenesis studies are consistent with a molecular model in which Val-82, Met-85, and Leu-87 in MD-2 and distal portions of a secondary acyl chain of hexaacylated lipid A that do not fit into the hydrophobic binding pocket of MD-2 form a hydrophobic surface that interacts with Phe-440 and Phe-463 on a neighboring TLR4.MD-2.LPS complex, driving TLR4 activation.